The price of metals such as copper and gold fell sharply from recent record highs yesterday, dragging stock markets lower. Meanwhile investors were piling back into dollars. Economists warned that volatility in financial markets could continue for some time because big moves in asset prices, from gold to shares and bonds, have spooked investors, who are becoming concerned about higher inflation and threats to global growth.

Copper closed trading in London at about $8,000 (£4,200) a tonne, down nearly $500 after a frantic day's trading on the London Metal Exchange in which the metal, widely used in electronics and plumbing, fell as low at $7,700. Nickel and platinum also tumbled as did gold, which fell as low as $687 an ounce, down from a 26-year high of $715 an ounce on Friday.

The prices of many metals have shot higher this year as speculative investors have added to strong demand from the rapidly growing Chinese economy, which is sucking in raw materials at an unprecedented rate to feed its growing industrial base. Copper prices, even after yesterday's fall, remain twice as high as they were at the beginning of this year. Stock markets also suffered a bout of weakness as mining stocks were sold off in line with weaker commodity prices and as investors fretted that higher inflation, due to higher commodity prices, could lead to a rise in global interest rates and lower economic growth.

The FTSE 100 Index, which last week set a five-year high of 6137, fell at one point to its lowest since February this year, but later recovered and was down more than 1%, or 70 points, to close at 5841, the biggest two-day fall since September 2002. Share prices in Tokyo and Hong Kong fell sharply earlier in the trading day though US shares were steady late in the day after slipping on Friday.

The dollar, which has fallen nearly 8% so far this year against the euro and 6% against the yen, initially continued last week's sell-off in Asian markets before benefiting from the markets' nerves as investors returned to the greenback, pushing it up against sterling and the euro. In late trade it was just over $1.88 to the pound and $1.28 to the euro.

Some analysts were not surprised by the falls in metals and share prices. "With the year-to-date moves we have seen, and the sort of speculation that has occurred, one has to say the time is ripe for some consolidation," said Andrew Milligan, head of global strategy at Standard Life Investments. He did not think, however, that the current turbulence in markets necessarily heralded a much darker future of falling prices, a collapsing dollar and economic slowdown. The world economy remains strong, corporate profitability is good and stock markets do not look particularly over-valued, he argued.

"But I think this volatility could continue for some time. A number of toxic events such as higher commodity prices, a falling dollar and rising world bond yields have all come together in the last week or two."

Stephen Lewis, a veteran economist at Insinger de Beaufort bank in London, put the market moves of recent weeks down to a classic pattern that happens when central banks around the world raise interest rates in unison. The US Federal Reserve raised rates to 5% last week, the European Central Bank has been raising rates and the Bank of Japan, while leaving rates at zero, has been removing liquidity from the Japanese financial system.

The period of excessively low global interest rates that existed from 2001 until now, is well and truly over, he says, and this has only recently dawned on financial markets as bond yields - interest rates set in markets - have risen sharply.

"It is unusual for all market prices, bonds, equities and raw materials, to move in the same direction. When it happens, it is almost always in response to a change in liquidity conditions. The central banks can feel happy that the monetary brakes are still working. The key question now is how rough the ride will be before the markets settle to cruising speed."

Analysts do not think yesterday's dollar bounce means a prolonged recovery for the US currency, however, since it remains under pressure from the huge US current account deficit, which would require a big fall in the currency if it were to be eroded. The dollar in fact started falling against a basket of major currencies back in 2001, but the fall was interrupted last year by a steady stream of interest rate rises from the Fed, which increased the attraction of holding dollar assets. Now the Fed's tightening is drawing to a close while it has much further to run in Europe and Japan.

Analysts at brokers Charles Stanley argue that the dollar downtrend is now well under way. "[The] decline has further to go," said Jeremy Batstone, director of research.

World markets: Taking the temperature

Tokyo Nikkei 225

The Nikkei 225 index fell to its lowest close in two months as investors continued to sell off leading exporters' shares, such as motoring and electronics companies, on the continuing strength of the yen against the dollar.

The index dropped 0.7% to 16,486.9, its lowest close since March 17. Over the last five trading days, the index has dropped 4.7%.

The dollar stands at around ¥109.69, dipping below the key ¥110 barrier. Canon, Toshiba and Honda were some of the biggest losers.

Hong Kong Hang Seng

The Hong Kong stock market fell sharply for a second session. The Hang Seng index dropped by 2.4% to 16,494.8 from a six-year high of 17,301 earlier this month.

The roaring growth in the Chinese economy - 10.2% in the first quarter - has sucked in raw materials at a very rapid pace and is held responsible, at least in part, for the big rises in oil and metal prices this year.

Investors' fears are increasing that growth in China is unsustainable and the economy is at risk of overheating.

New York Dow Jones

The dollar, which has been sliding steadily this year, fell sharply in early Asian trade but then bounced back as investors fretted about falling stocks and metals prices. It rose to just over $1.88 to the pound and $1.28 to the euro. But analysts think the greenback is on a firm downtrend because of the USA's huge current account deficit and that yesterday's rise was little more than a blip.

London FTSE 100

Rising commodity prices and a plethora of bid stories drove London's leading shares to a five year high just three weeks ago. Since the FTSE 100's recent peak of 6132.7 on April 21, however, a more cautious view has taken hold. Analysts are concerned about the strength of the dollar and the effect of the commodities boom on inflation. Yesterday saw the biggest two day drop on the FTSE 100 since September 2002. But most market watchers feel that talk of a 1987-style crash is overblown, and suggest the current weakness is a necessary correction.

Commodities

Key commodities fell by as much as 10% yesterday pulling down stock indices and creating volatility in emerging markets. Zinc dropped 10% before recovering slightly to $3,450/3,550, copper plunged by 9% to $7,700/$7,900 a tonne (over $1,000 below its high of $8,800 last Thursday) as investors were quick to sell fearing a slowdown.